How Will New Independence Change its Fortunes?
Mike is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
A long-awaited move by one of the world's most prominent video game makers is finally set to go down. According to a recent announcement, Activision Blizzard (NASDAQ: ATVI) will spearhead an $8.2 billion buyback plan that will essentially neutralize the controlling stake that French conglomerate Vivendi currently owns. After years of being controlled by outside owners, Activision will have far more freedom of movement in its day-to-day operations.
Investors were not surprised to learn that this buyback is priced below Activision's current share-price levels. While the timetable of the agreement is not yet clear, it is expected to have a significant impact on the company's short-term price action. Enterprising traders may be able to use this situation to squeeze some unanticipated profits out of the company's stock. For longer-term investors, this could set up an excellent entry point into a stock that continues to show promise.
Activision Blizzard and the Competition
As a multinational video game developer that works with numerous console makers and distributors, Activision occupies a coveted place near the top of the technology heap. The company competes with household-name developers and electronics firms, including Sony Corporation (NYSE: SNE) and Electronic Arts (NASDAQ: EA).
Activision Blizzard competes directly with these companies in some gaming categories. Activision's Call of Duty series competes with Sony's SOCOM series, although Call of Duty gets far better ratings and has far outsold SOCOM. Electronic Arts doesn't specialize in first person shooter games but they do have the successful Battlefield series. Activision has many other games, including massive multiplayer games like World of Warcraft. EA specializes in sports titles but has been branching into all types of other game genres.
Activision is much larger than its in-state rival. Its pre-buyback market capitalization of $20.3 billion exceeds that of Electronic Arts by more than 60 percent. Meanwhile, Sony's market cap of around $22 billion puts it just a hair ahead of the much less diversified Activision. Of course, Sony has struggled with some serious profitability and pipeline issues. As a result, its price-to-book ratio is a depressing .78. This compares to 3.18 for EA and 1.76 for Activision.
Activision remains quite profitable: Its 2012 earnings of $1.2 billion came on about $5 billion in revenues. Moreover, it managed to boost its revenues by 13 percent and up its earnings by more than 18 percent. For its part, EA turned a much smaller profit of $119 million on $3.8 billion in revenues. With earnings of $546 million and revenues of $86 billion, Sony was barely profitable.
All three of these companies have manageable amounts of debt. Although the buyback will force it to take on a considerable amount of debt, Activision currently has no long-term debt and enjoys a cash reserve of $4.6 billion. EA has about $1 in debt for every $2 in cash on its books. Sony's ratio is a mirror image of EA's.
Recent Price Action
Activision's recent stock-price graph is very peculiar-looking. After reaching a high near $14 per share in late 2011, Activision traded sideways until the beginning of 2013. As rumors of a massive buyback began to intensify, investors added to their holdings and drove the stock into a narrow range between $14 and $15 per share. Another period of sideways trading followed. After the formal announcement of the buyback plan, the company's stock shot up to about $18 per share and looks likely to stabilize at that level.
A Massive Buyback
The buyback that has driven Activision's stock to new highs will unfold in two parts. First, the company itself will use a combination of new debt issues and cash on hand to fund the $5.8 billion repurchase of about 430 million shares. This transaction may include additional assets or tax-related vehicles. As it currently stands, Activision's buyback price will be fixed at $13.60 per share. This represents a discount of more than 25 percent to the company's current share price.
The second tranche of the repurchase will be organized by a nominally independent investment consortium that answers to Activision's CEO. This group will buy back 172 million shares at a final cost of about $2.3 billion. After these transactions have been completed, Vivendi will retain a shrunken Activision stake of about 12 percent.
How Competitors Might React
While this is basically an in-house affair, it will have ramifications for Activision's competitors. As changing consumer tastes force the video game industry to endure a prolonged slump, key players are nervously eyeing one another for signs of serious weakness. Activision's rather bold move is a show of confidence and power that could make companies like EA and Sony nervous. After all, investors cannot help but be enticed by massive share buybacks.
Long-Term Outlook and Potential Investment Opportunities
Although Activision is getting a very good deal on this buyback, its move is unlikely to drive down its share price. In fact, the market's reaction to the announcement of the deal suggests that Activision's shares could continue to appreciate. Since the bought-back shares will be removed from circulation, the company's much lower share count will provide a significant boost to its per-share revenues and earnings. More to the point, it could restore confidence in the company after a very bumpy run.
In sum, investors should look at this situation as an opportunity to accumulate Activision shares at a discount. A slight retrenchment could provide a fleeting opportunity for long-term investors to stock up on the company's shares. Short-term investors may be able to play the remainder of the bounce for a decent profit as well. Of course, investors are always encouraged to perform their own due diligence.
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Mike Thiessen has no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard. The Motley Fool owns shares of Activision Blizzard. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!